Second Home vs. Investment Property: The Differences

Real estate can be a smart investment that gains value over time. And now that you’ve gotten used to life in your primary residence, you may be thinking about buying a second home or an investment property. Maybe you’d like a vacation home that can do double duty and earn some money.

Pro tip: A property’s designation will impact how you finance it and determine its tax benefits and liabilities.

We’ll explain the difference between a second home and an investment property so you can decide which option is right for you.

What’s the Difference Between a Second Home and an Investment Property?

The key differences between a second home and an investment property are based on occupancy and whether the property generates income.

What is a second home?

As the name suggests, a second home is a property you buy in addition to your primary residence. You should plan on living there for at least part of the year. The IRS qualifies a property as a second home if you live in it for more than 14 days a year or 10% of the time you use it as a rental property.^[1]

What is an investment property?

An investment property is a residence you buy exclusively as a rental property. An investment property can be a single-family home or a multifamily property with up to 4 units.

Even if you live in one of the units in your multiunit property, it will still count as an investment property.

How Can I Get a Mortgage for a Second Home or Investment Property?

You’ll need to talk to a lender (think: a bank, a credit union or an online lender) about getting a mortgage for a second home or investment property. Getting a mortgage for a second home or investment property will be similar to the process you went through for your first home.

Mortgage approval is typically easier for a second home than an investment property. You can generate income from a second home, but an investment property will give you tax benefits a second home doesn’t offer. 

There are multiple ways to finance a second home or investment property. Here are the most common:

• Conventional mortgages: The amount you’re borrowing must fall within the conforming loan limits set by Freddie Mac and Fannie Mae. The 2023 loan limits for a single-family property are $726,030 in low-cost areas and $1,089,300 in high-cost areas. The limits for 4-unit properties are $1,396,800 in low-cost areas and $2,095,200 in high-cost areas.^[2]
• Jumbo loans: If the amount you want to borrow exceeds conventional conforming loan limits, you will need to take out a jumbo loan.
• Government-backed loans: Government-backed mortgages, like Federal Housing Administration (FHA) loans and Department of Veterans Affairs (VA) loans, can’t be used to buy a second home, but you can use them to buy a multiunit investment property if one of the units is your primary residence.
• Second mortgage or cash-out refinance: You can also finance the purchase of a second home or investment property with a cash-out refinance, a home equity loan (aka a second mortgage) or a home equity line of credit (HELOC) on your primary residence. 

If you’re wondering whether a second home or investment property is financially feasible for you, feel free to use our mortgage calculator to get a better idea. 

Lender requirements for a second home or investment property mortgage

To finance your purchase of a second home, mortgage lenders generally require the home to be at least 50 miles from your primary residence, a 1-unit property and isn’t subject to a timeshare requirement.

Buyers of second homes and investment properties typically need to meet higher credit score and down payment requirements than buyers of primary residences.

Here are more lender requirements for second home or investment property buyers:

Your down payment

Most lenders want a minimum down payment of 10% for a second home and at least 15% – 25% for an investment property.^[3] Keep in mind that most lenders will prefer a loan-to-value (LTV) ratio that doesn’t exceed 75% – 90% of your home’s value.^[4]

Your income

When you’re buying a second home or an investment property, mortgage lenders will verify that you earn enough income to cover your existing debts and a second mortgage – even if you plan on collecting rent with an investment property.

Your debt

Your debt-to-income (DTI) ratio should be 45% or less – including the mortgage on your primary residence.^[3]

Your credit score

With a 620 credit score, you can qualify for a primary residence mortgage. But for a second home or investment property, most lenders require a minimum credit score of 640 or higher.^[3]

While you may qualify with a 640 credit score, you could end up paying 1 percentage point more in interest than you would with a 680 credit score or higher. A 740 credit score or higher would put you in the best position to qualify for a loan.

Mortgage Rates for Second Homes and Investment Properties

When you get a mortgage for your second home or investment property, you should expect to pay a higher interest rate than you’re paying on your primary residence.

You will likely pay at least 0.25% more for a mortgage on a second home than you would for an identically priced primary residence. Depending on your down payment and credit score, you could pay up to 2% more for investment properties.^[5]

Second Home and Investment Property Tax Benefits

If you earn income with your investment property, you’ll owe more in taxes. But you can claim more tax deductions on an investment property or second home than you could with your primary residence.

Tax deductions

You can deduct property taxes, mortgage interest and mortgage insurance from second homes and investment properties. Writing off these expenses lowers your taxable income, decreasing what you owe in taxes. 

Here’s what you can write off from your taxes with a second home or an investment property.^[6]

• Mortgage interest: As of 2023, you can deduct up to $750,000 in interest on all your mortgage debt. That includes your primary residence, second home and investment property.
  
• Property taxes: You can deduct up to $10,000 in state and local property taxes for each property.
  
• Mortgage insurance: Private mortgage insurance (PMI) on a second home is tax deductible.

You can also write off maintenance, rental advertising costs, management fees and utility bills for an investment property.

FAQs: Frequently Asked Questions

Still have questions? We have answers to common questions about second homes and investment properties:

Why are mortgage rates for second homes or investment properties higher?

Lenders know that if things go sideways, borrowers will likely prioritize the mortgage payments on their primary residence. Lenders charge higher interest rates because 2nd mortgages are at greater risk of default or foreclosure.

When do I need to report rental income?

You don’t need to report income if you rent out your second home for 14 or fewer days. If you rent your home for more than 14 days, the IRS will consider your second home an investment property, and you’ll need to report rental income when you file your tax return. 

Our advice? Be honest with the IRS when reporting your property use. If you get caught being anything less than honest, you could be charged with occupancy fraud, which could lead to fines and jail time.

Will the net investment income tax apply to my rental income?

You will likely pay an additional 3.8% tax on your rental income if you make more than $125,000 (or $250,000 if you’re married and filing jointly).^[7]

Is a Second Home or Investment Property Right for You?

Buying a second home or investment property can be a rewarding way to generate passive income and invest for the future – but it’s a big responsibility, financially and otherwise. 

Before you start looking at second homes and talking to lenders, take a hard look at your finances and see how much you can realistically afford to spend. 

If you’re looking at an investment property, do your homework. Is the property in good condition? Do you have enough time and money to invest in fixing it up? 

And it’s always a good idea to talk to a tax professional to learn about potential tax benefits and liabilities.